Year End Risk Analysis: The Economy

I am not of the “V” or “W” persuasion, but see a “square root” shaped economic recovery, a “V” followed by a long, bumpy, but very modest rise. After a gut churning plunge in 2008 and 2009, we have seen a bungee cord bounce back. GDP growth saw a rollicking great 5.5% annualized growth rate in Q1 2010. After that, you needed a triple shot espresso to stay awake, with growth plunging to a more somnolecent 1.7% annualized rate. You can’t have robust growth without credit or consumers, both of which are still missing in action in our last conflagration. The bungee cord is now snapping the other way, with 3% growth possible in Q4.

It’s anyone’s guess how much toxic waste lies buried in bank balance sheets, so it’s going to be a long time before the return to bidding for market share with free credit cards, low teaser rates, and liar loans, or their next generation iterations. Foreclosure gate promises to unfold next year, and push any real recovery into the distant future. The “shadow banking system” proved to be just that, a shadow.

Anything real estate related, commercial or residential, once a big part of GDP, has got another five years at least in the penalty box, and will be dead weight. Another albatross around the economy’s neck are thousands of states and municipalities that are sucking money out of the economy faster than the federal government can pump it in.

Since we are not creating the new industries essential for real job growth, I believe the unemployment rate will stay stubbornly high at around 9% for years, much like Germany saw for decades. The jobs that decamped for China or were vaporized by the Internet are never coming back. With tens of millions of individuals wiped out, and most of the rest recovering from a halving of their net worth, don’t hold your breath for a consumer spending boom.

Sure, there will be a few more in the stores this Christmas, but most of those will be shoplifters. Frugality is here to stay. The economy is also going to have to kick its addiction to government stimulus spending, which has accounted for the much of the actual growth we have seen this year.

If all of that were not bad enough, headwinds in the form of rising interest rates are certain to hit sometime in 2011, either to rescue a collapsing dollar, because of a sheer volume of government borrowing, or Ben Bernanke suddenly deciding enough is enough, and cancelling QE3, QE4, and QE5. What growth we will see in the global economy will be 90% an emerging markets story. As much as I’d like to shout from the roof tops that happy days are here again, I see nothing but storm clouds on my Doppler radar.